ConocoPhillips had commenced an application for judicial review as a result of a dispute between the CRA about whether a Notice of Reassessment had been validly sent to the taxpayer. The CRA alleged that it mailed a Notice of Reassessment on November 7, 2008. ConocoPhillips alleged that it never received the Notice of Reassessment and that it first learned of the reassessment on April 14, 2010.

Accordingly, when ConocoPhillips filed a Notice of Objection on June 7, 2010, the CRA advised that it would not consider the objection on the grounds that it was not filed within 90 days of the alleged mailing date (i.e., November 7, 2008) and that no request for an extension of time was made within the year following the alleged mailing date of the reassessment.

The Federal Court considered the question of jurisdiction and found that it had jurisdiction because the Court was not being asked to consider the validity of the reassessment (which can only be determined by the Tax Court of Canada) but rather, was only being asked to review the CRA’s decision not to consider the objection.

Based on the standard of reasonableness, the Federal Court found in favour of ConocoPhillips on the basis that the CRA had not sufficiently engaged the evidence to appropriately render an opinion whether or not the reassessment was mailed on the alleged date. The Court set aside that decision.

The Crown appealed to the Federal Court of Appeal on the basis that the Federal Court lacked jurisdiction on this issue. The Federal Court of Appeal allowed the appeal.

Section 18.5 of the Federal Courts Act provides that judicial review in the Federal Court is not available where, inter alia, an appeal is permitted on the issue before the Tax Court of Canada. In the present case, the Federal Court of Appeal stated that, pursuant to subsection 169(1)(b) of the Income Tax Act (Canada), ConocoPhillips could have appealed to the Tax Court after 90 days had elapsed following the date its objection was initially filed and the Tax Court would have been the correct forum to determine if, or when, the Notice of Reassessment was mailed and when the time for filing a Notice of Objection expired.

The Federal Court of Appeal clarified that the Minister’s obligation to consider a Notice of Objection is triggered regardless of whether a Notice of Objection may have been filed within the required time-frame. Further, the Minister’s decision on this issue is not an impediment to filing an appeal to the Tax Court pursuant to paragraph 169(1)(b) of the Income Tax Act (Canada). Accordingly, judicial review of this issue was not available in the Federal Court.

The taxpayer’s Supplementary Memorandum of Fact and Law is substantially identical to the draft factum that it had filed with its motion materials. The original draft factum was 30-pages, whereas the taxpayer’s filed Supplementary Memorandum of Fact and Law has been, on the instructions of the Court of Appeal, reduced to 20-pages. In its Order on the motion, the Court stated,

[24] Unnecessarily lengthy, diffuse submissions are like an unpacked, fluffy snowball. Throw it, and the target hardly feels it. On the other hand, short, highly focused submissions are like a snowball packed tightly into an iceball. Throw it, and the target really feels it. Shorter written submissions are better advocacy and, thus, are much more helpful to the Court.

In its supplementary factum, the taxpayer has stated:

The trial judge’s recusal reasons compromise the appearance or reality of a fair process such that a new trial is necessary;

A trial judge has no right or duty to intervene in the conduct of an appeal;

The trial judge in this case “put himself into the appellate arena in a direct and sustained manner”;

The recusal reasons raise “serious concerns” and would cause “any reasonable observer to doubt the impartiality” of the trial judge;

The recusal reasons “stack the deck” against the taxpayer;

An intervention by the trial judge interferes with the autonomy of the parties to frame the issues before the Court of Appeal on their own terms;

This interference is a deliberate attempt to meddle in the case on its merits;

The trial judge has suggested to the Court of Appeal that it must choose between allowing the taxpayer’s appeal and upholding the trial judge’s honesty and integrity;

A reasonable person would conclude the trial judge harbours some animus against the taxpayer that pre-dates the trial judge’s reading of the taxpayer’s factum in the Court of Appeal;

The trial judge was not detached and even-handed in how he dealt with this case;

A litigant in the taxpayer’s position could not reasonably believe it had received a “fair shake” from a process that produced “such an extraordinary intervention” in the appeal by the trial judge; and

The trial judge’s conduct calls into question the fairness of the entire process and must be remedied by a new trial before a different judge.

The Court of Appeal stated that the lower court’s recusal reasons “depart from the norm”, and were a “new, material development ” in the appeal and “have become part of the real issues at stake”. The Court stated that it was neither clear cut nor obvious that the new ground raised by the taxpayer would fail. Further, there were no reasons to refuse the entry of the new ground into the appeal.

The Court of Appeal also ordered that a Supplementary Appeal Book be filed, which shall contain the Tax Court’s recusal reasons and the Court of Appeal’s Order on the motion.

Finally, the Court of Appeal allowed the taxpayer to file a Supplementary Memorandum of Fact and Law, and the Crown to file a responding memorandum. Interestingly, the Court of Appeal limited the length of the memorandum to no more than 20 pages. The Court of Appeal stated,

[22] In the circumstances, 20 pages is generous. Parties normally make all of their written submissions for all grounds of appeal in less than the 30 page limit in Rule 70. And many of those appeals are more complex than this one. However, in this case, the new ground is somewhat novel and the circumstances are somewhat unusual, so I am prepared to grant the appellant some leeway.

[23] The difference between what the appellants propose in page length and what I am willing to grant is nine pages. Some might wonder, “What’s the big deal about nine pages?”

[24] Unnecessarily lengthy, diffuse submissions are like an unpacked, fluffy snowball. Throw it, and the target hardly feels it. On the other hand, short, highly focused submissions are like a snowball packed tightly into an iceball. Throw it, and the target really feels it. Shorter written submissions are better advocacy and, thus, are much more helpful to the Court.

[25] Structures that lead to repetition, over-elaboration of arguments, block quotations, and rhetorical flourishes make submissions diffuse. Simple but strategic structures, arguments presented only once and compactly, tight writing that arranges clinical details in a persuasive way, and short snippets from authorities only where necessary make submissions highly focused. The former dissipates the force of the argument; the latter concentrates it.

[26] If the parties can make their submissions on the new ground in fewer than 20 pages, so much the better.

Earlier this year, in Black v. HMQ (2014 TCC 12), Lord Conrad Black unsuccessfully argued in the Tax Court of Canada that, due to his U.K. residency status, he should not be subject to Canadian tax on certain income and taxable benefits (see our previous post here).

In the case, the Tax Court held that a liberal and purposive approach must be adopted when interpreting tax treaties (i.e., Canada-United Kingdom Income Tax Convention). Applying this approach, the Tax Court held that Lord Black could be deemed a U.K. resident for the purposes of the Canada-UK Treaty and also a Canadian resident for the purposes of the Income Tax Act (Canada) (the “Act“).

Further, the Tax Court held that Article 27(2) of the Canada-UK Treaty applied to enable the CRA to assess a Canadian resident’s non-Canadian office and employment income. Consequently, the Tax Court held that Lord Black was liable for tax on the income and benefits in question.

Both parties had agreed that subsection 250(5) of the Act, the tie-breaker rule which deals with the deemed non-residency of a Canadian where the individual is deemed to be a resident in another country by virtue of a tax treaty, did not apply. At the time the subsection came into force in 1999, the provision was not applicable to a Canadian resident individual who was (i) a resident of two countries and (ii) deemed resident of one of those countries under a tax treaty. Had subsection 250(5) applied, Lord Black would not be a resident of Canada for the purposes of the Act.

On appeal, the Federal Court of Appeal considered the following issues:

(a) whether the Tax Court correctly determined that Lord Black could be deemed both a U.K. resident under the Canada-UK Treaty and a Canadian resident for the purposes of the Act; and

This question became an issue in the Tax Court’s recent decision in Legge v. The Queen (2014 TCC 360), in which the Tax Court allowed a taxpayer’s appeal due to the Crown’s failure to properly plead its case in the Reply.

In Legge, the taxpayer received pension and business income in 2006 and 2007. On November 27, 2008, the taxpayer filed income tax returns for 2006 and 2007. In these returns, the taxpayer reported business losses from self-employment, and thus pensionable earnings was reported as nil.

Subsequently, on November 12, 2012, the taxpayer filed T1 adjustment requests for 2006 and 2007 and changed the business losses to business income. The taxpayer reported self-employed pensionable earnings of $5,524 and $5,116 in 2006 and 2007, respectively.

Under the Canada Pension Plan, a person must make CPP contributions on the amount of his/her self-employed earnings (which include income from a business and certain other amounts). Under section 30 of the Canada Pension Plan, a taxpayer who must make a contribution in respect of self-employed earnings must file a return with certain information. Importantly, subsection 30(5) states as follows:

(5) The amount of any contribution required by this Act to be made by a person for a year in respect of their self-employed earnings for the year is deemed to be zero where

(a) the return of those earnings required by this section to be filed with the Minister is not filed with the Minister before the day that is four years after the day on or before which the return is required by subsection (1) to be filed; and

(b) the Minister does not assess the contribution before the end of those four years.

In Legge, the Crown argued that subsection 30(5) applied in this case because the taxpayer had failed to file a return of self-employed earnings within four years of the filing due date. Rather, the taxpayer reported losses rather than earnings.

The Tax Court rejected this argument on the basis that subsection 30(5) applies only if there is a failure to file and the CRA had not assessed contributions within the four-year period. The Tax Court noted that, in the present case, the assessment requirement was not mentioned in the Reply and was not mentioned by Crown counsel at the hearing. Since there was no assumption as to what assessments (if any) were made, the Crown had the burden to adduce evidence that the requirement in paragraph 30(5)(b) had been satisfied. The Crown had not adduced evidence on this point.

The Tax Court noted that this result was “in a sense a windfall” to the taxpayer, but “the Crown is well aware of the requirement to properly plead its case and to establish the facts supporting its position, either by evidence or by assumptions.”

In Brogan Family Trust (2014 ONSC 6354), the Ontario Superior Court of Justice said “no”, and dismissed the Crown’s motion to set aside an earlier rectification order on the basis that the CRA had not been notified of the proceeding.

In Brogan, the taxpayer had restructured his business and settled a trust for family tax planning purposes in 2004. Subsequently, in 2010, the trustees became aware of an error in the trust agreement that prevented the distribution of trust property to intended minor beneficiaries. The trust made an application for rectification of the trust agreement so that the trust property could be distributed as intended. The trust’s tax litigation counsel advised that no notice to the CRA was required.

The rectification application proceeded in November 2010. Shortly before the rectification order was granted, the trust sold a business. In its 2010 tax return, the trust allocated the proceeds to the beneficiaries, who in turn reported the income in their returns.

The CRA commenced an audit of the sale of the business and the trust in June 2012, at which time it became aware of the 2010 rectification order that had corrected the trust agreement. In August 2012, the CRA was provided a copy of the rectification order. And then in May 2013, the CRA brought its motion for an order setting aside the 2010 rectification order.

The Court considered three issues:

Did the CRA bring the motion “forthwith” after learning of the rectification order?

Did the CRA have standing to bring the motion?

Should the CRA have been notified of the rectification application?

The Crown argued that (i) the delay was not inordinate because there had been internal confusion at the CRA in respect of the rectification order, (ii) the CRA was a creditor and thus was affected by the rectification order, and (iii) the CRA’s own view and the custom among tax litigators is that the CRA should be given notice (see, for example, Income Tax Technical News No. 22, at pg. 6).

The taxpayer argued that (i) the CRA’s 10-month delay was unreasonable and not “forthwith”, (ii) the CRA was not affected by the rectification application, and (iii) in any event, there was no requirement the CRA be notified of the rectification application.

On the issue of delay, the Court stated that the CRA had not brought the motion forthwith. The 10-month delay was the fault of the CRA, and even after the rectification order was referred to counsel, it still took two months for the motion to be launched.

And finally, on the issue of whether notice should be provided to the CRA, the Court stated that it had been directed to no authority on the point that the CRA should be given notice, nor on the point that notice is required if the CRA is not a creditor. The Court was not persuaded that providing notice to the CRA was the practice of tax litigators, and nor was it the law.

Rather, in the Court’s view, the delivery of a Notice of Assessment creates rights for the CRA to participate in a rectification proceeding as a creditor (see, for example, Canada (A.G.) v. Juliar ((2000) 50 O.R. (3d) 728 (C.A.) (a case on which Dentons was counsel for the successful taxpayer)).

The Court concluded as follows:

[22] … the CCRA is only required to be given notice of a proposed rectification proceeding when the CCRA’s legal interests might be directly affected by the outcome of the rectification proceeding, such as where the CCRA is a creditor and the rectification would affect its rights. Otherwise, the CCRA might be made a party when so advised by counsel that notice should be given to the CCRA.

At issue was the appropriate discount rate paid under a receivables sales agreement between McKesson Canada and its parent company, MIH, under section 247 of the Income Tax Act (Canada). A secondary issue was the assessment of withholding tax on a deemed dividend that arose as a result of the lower discount rate. For our earlier blog post on the Tax Court decision see here.

In the Federal Court of Appeal, the Appellant’s Memorandum of Fact and Law was filed on June 11, 2014. For our earlier post summarizing the appellant’s memorandum see here.

In its Memorandum, the Respondent states that the trial judge’s “carefully reasoned decision” and findings were “amply supported” by the evidence at trial and no palpable and overriding error can be found in the trial judge’s conclusions.

The Respondent summarizes its points at issue at paragraph 56 of its Memorandum:

The trial judge applied the correct test. His decision was based on what arm’s-length persons would agree to pay for the rights and benefits obtained and not on findings of tax avoidance, lack of need for funds, or group control.

Ample evidence supports the trial judge’s determination of the arm’s-length discount rate. Since no palpable and overriding error was committed, his decision should not be disturbed.

The trial judge did not commit an error of law in concluding that the five-year limitation period in Article 9(3) of the Canada-Luxembourg Tax Treaty does not apply to the Part XIII tax reassessment at issue.

No hearing date has yet been set for the hearing in the Federal Court of Appeal.

What is the result of the Crown’s failure to properly plead its assumptions in the Reply? This issue was considered by the Tax Court in Health Quest Inc. v. The Queen (2014 TCC 211) in which the Crown’s Reply included “assumptions” that were statements of mixed fact and law rather than facts alone.

The taxpayer was a distributor of modified and “off-the-shelf” therapeutic footwear for relief of various disabling conditions of the feet. During the reporting periods at issue, section 24.1 in Part II of Schedule VI of the Excise Tax Act stated that zero-rated supplies included footwear designed for use by an individual who has a crippled or deformed foot or other similar disability when the footwear is supplied on the written order of a medical practitioner. (The provision was amended in 2012 to broaden the definition to include written orders by a “specified professional”.) The taxpayer considered that most or all of the footwear it sold was zero-rated under s. 24.1.

The CRA audited the taxpayer for the period of January 1, 2008 to December 31, 2009. Based on a sampling of the taxpayer’s sales (in the months of August and December 2009), the CRA assessed additional GST owing of $42,274.72 for the period.

In the Tax Court, the taxpayer argued that all of the shoes it sold were for a prescribed diagnosis and thus zero-rated. The Respondent argued that the “off-the-shelf” shoes sold by the taxpayer (i.e., sold “as-is” without modification) were not zero-rated and thus subject to GST.

In Health Quest, the Crown’s Reply stated, “In so assessing the Appellant, the Minister relied on the following …

(a) the facts stated and admitted above;

(b) the Appellant was a GST/HST registrant;

(c) the Appellant was required by the Excise Tax Act, R.S.C. 1985, c. E-15, as amended (the “Act”) to file its GST/HST returns on a quarterly basis;

(d) the Appellant was a corporation involved in the supply of footwear which were specially modified by the Appellant or were specially designed by the manufacturer for persons with physical disabilities;

(e) the products described in subparagraph 7(d) above are zero-rated for HST pursuant to Schedule VI of the Act;

(f) the Appellant also supplied other products which were not zero-rated pursuant to Schedule VI of the Act; and

(g) during the periods under appeal, the Appellant failed to collect tax of not less than $42,274.72 on its supply of products which were not zero-rated pursuant to Schedule VI of the Act.”

[23] The pleading of assumptions gives the Crown the powerful tool of shifting the onus to the taxpayer to demolish the Minister’s assumptions. The facts pleaded as assumptions must be precise and accurate so that the taxpayer knows exactly the case it has to meet.

In Health Quest, the Tax Court determined the Crown’s key “assumptions” were merely the Respondent’s view on the application of the law to the facts of the appeal.

The Court noted that where the Crown has not set out any proper assumptions of fact in the pleadings, the evidentiary onus reverts to the Crown to establish the correctness of the assessment (see Pollock v. Minister of National Revenue (94 DTC 6050 (Fed. C.A.) and Brewster v. the Queen (2012 TCC 187)). In other words, the normal requirement that a taxpayer must adduce evidence to “demolish” the Crown’s assumptions is reversed and the Crown must prove its case.

In Health Quest, the Respondent’s only evidence was the testimony of the appeals officer. The Tax Court held the testimony did not establish, on a balance of probabilities, that the footwear in question was not zero-rated. The Court noted that it would have been beneficial to have product literature, scientific studies, or the testimony of medical professionals, and this type of evidence would have been essential to engage in a meaningful textual, contextual and purposive analysis of the applicable legislation (there are no previous cases that have considered the interpretation of section 24.1).

The Tax Court allowed the appeal.

The Court’s decision in Health Quest is a helpful reminder of the importance of including only facts and not legal arguments in the assumptions in a Reply. Taxpayers and their counsel should closely scrutinize the assumptions and reasons described in a Reply to ensure the pleading conforms with the Tax Court’s rules.

In McKesson, the Tax Court upheld the CRA’s transfer price adjustments (made pursuant to section 247 of the Income Tax Act (Canada)) that had reduced the discount rate paid under a receivables sales agreement between McKesson Canada and its parent company, MIH, from 2.206% to 1.013%. The Tax Court also upheld the assessment of withholding tax on a deemed dividend that arose in a secondary adjustment resulting from the lower discount rate.

In its Memorandum, the Appellant states that the Trial Judge made a “fundamental error of law” and requests that the appeal be allowed with costs and the matter be remitted to the Tax Court for a new trial before a different judge. The Appellant describes the issues on the appeal as follows:

Did the Trial Judge err in law by stepping outside the pleadings and the case put forward and as developed by the parties over the course of the trial to find against McKesson Canada, thereby depriving McKesson Canada of its right to know the case it had to meet and its right to a fair opportunity to meet that case?

Did the Trial Judge err in law when he misconstrued the arm’s-length principle by holding that, in determining what terms and conditions arm’s length parties would have made or imposed, he was to assume that one party (purchaser) controls the other (seller)?

As a result of stepping outside of the pleadings and the case put forward and as developed by the parties over the course of the trial and committing an error of law, did the Trial Judge calculate the discount rate in a manner that ignored the assumption of risk by MIH, contrary to the terms of the Agreement and resulted in a discount rate that is commercially absurd?

Did the Trial Judge err in permitting the Minister to assess non-resident withholding tax after the expiry of the applicable limitation period and in contravention of Canada’s obligations under a bilateral tax treaty?